Good morning. Donald Trump’s big bang, day one action on tariffs appeared, at first, to be almost nothing at all: a memo calling for the evaluation of US trade relationships. The memo, reportedly, amounted to no more than giving the sabres a good rattle. It looked like win for the bark>bite view of his presidency, to which Unhedged subscribes, and was consistent with the emphasis on gradual and negotiated tariff policy from most (but not all) of the president’s economic advisers.
Markets seemed to like it, too, though it is not clear how big a discount the market had already placed on Trump tough talk on tariffs. The dollar had a pretty big decline, suggesting a degree of surprise. The upward shift in equity futures was more muted. At the very least, the non-action seemed to confirm that the administration knows markets doesn’t like tariffs, and it wants markets to be happy.
The reprieve lasted a few hours. In the evening, Trump told reporters he was “thinking of” putting 25 per cent tariffs on Canada and Mexico. “I think we’ll do it February 1,” he said. The dollar reversed course against the currencies of the two countries.
A comment to be taken at face value? Probably not. A negotiating ploy? Almost certainly. But for markets, strategic ambiguity cannot go on forever. Trump likes tariffs and tariff threats. Investors, on the whole, do not. At some point the time for posturing will end and the time for policy will begin.
Trump probably can’t have both continued high corporate profits and a lower trade deficit. And that will not be the only decision he will face. He will also have to balance America becoming “a manufacturing nation again” against realising “massive amounts of money from tariffs”; the two aims suggest very different tariff regimes.
Similarly, he has promised much lower energy prices and big increases in domestic energy production. He can deliver, at best, one of the two. While the market waits for him to make his compromises, volatility seems like a good bet.
The president is being no more dishonest than our national tradition allows. It is standard to use the inaugural address to promise every citizen a tax cut, a lower deficit, world peace, and a pony. But any hint about which of his many commitments Trump will pursue, and which he will neglect, will be seized upon by nervous markets. Email us with your view of the president’s true economic priorities: robert.armstrong@ft.com and aiden.reiter@ft.com.
**Readers in Washington, DC should immediately sign up for Alphaville’s pub quiz, which is coming to the capital on February 6. These events are a lot of fun and a good way to meet other finance-econ types. Details here.**
Is the UK cheap, part two
Last week, we asked whether UK stocks were as cheap as they looked, relative to US stocks. Our tentative answer was no. When you adjust the two markets’ valuations for expected growth over the next few years, the UK discount looks small. And there are not many companies in the UK indices that look like wonderful bargains. But readers wrote in with some ideas.
Several readers suggest comparing HSBC, Lloyd’s and other UK banks to their US counterparts; or BP to ExxonMobil and Chevron. An interesting contrast but, as Unhedged wrote in a discussion of the UK discount two years ago, there are structural reasons that UK oil companies should be cheaper than US ones: US companies have better reserve profiles, and many European institutional investors’ mandates prevent them from owning oil stocks. As for UK banks, they have slower-growing home markets and/or much weaker capital markets and trading operations than their US peers. Readers may disagree, but we don’t see the oil and banking discounts getting meaningfully smaller any time soon.
Others wrote back to us with interesting comparisons from our list of UK companies with high US exposure, several of which we have added to the table below, along with a few of our own (Tesco does not have high US exposure, but we thought the comparison to Kroger was interesting):
Unlike our European comparisons from last week, there is at least the smell of some bargains here. Some UK companies trade at big discounts to US peers that are not explained by near-term earnings expectations. Medical device maker Smith & Nephew (a company with high US exposure) is much cheaper than Stryker, and the same goes for credit reporting agencies Experian and Equifax.
Several UK companies are also valued in the same band as their US counterpart, but give you higher expected growth for your buck: BAE, Tesco, and AstraZeneca. Of course, this is only a starting point. There is much more to explore before declaring the UK half of the pair to be cheap. But it’s something.
Michel Lerner of UBS’s Holt team wrote with another insight into the valuation gap between the S&P 500 and FTSE 100. He noted the difference in valuation has never been greater in terms of free cash flow yield, as his chart of the yields shows:
Lerner points out, however, the UK market is packed with value stocks, that is, stocks that are highly cyclical and not particularly profitable through the cycle:
On a like-for-like basis . . . US and UK value stocks are no different — it’s just that there are more such stocks in the UK than in the US. Value is cheap vs other cohorts in all markets because it is full of low-profitability businesses that are highly cyclical — this is not the area that has powered the US outperformance.
UK growth and quality (high profitability) stocks look “more attractively valued than US peers”, Lerner says, but there just aren’t very many stocks in either category in the UK, especially among big caps.
The point about market cap brings us to another interesting comparison. Without big tech companies of their own, the European and UK indices somewhat resemble US mid-caps: decent margins, some international exposure, and a high proportion of value companies. The other day we noted there is only about a 10 per cent premium on the S&P 500 large-cap index relative to the EU and UK indices, using a PEG analysis. Here is the same analysis using the S&P 400 mid-cap index:
Though PEG ratio is an imperfect metric, it suggests that the S&P 400 US mid-cap index might be cheaper than the UK and EU big-cap indices. If you are uneasy with the valuations of big-cap US stocks, looking at smaller stocks might make as much sense as looking abroad, or more.
(Reiter and Armstrong)
Correction
In our last letter, we wrote that Peter Navarro was the former US trade representative and Robert Lighthizer was an adviser in the first administration. That was a mix up. Lighthizer was USTR, Navarro was a trade adviser and the director of the Office of Trade and Manufacturing Policy, an office created by the Trump administration, which was not filled during the Biden administration. Apologies.
One Good Read
There is big money in cow bile.
